Forward looking statements

This business review has been prepared solely to provide additional information to shareholders to assess the Company's strategies and the potential for those strategies to succeed. It should not be relied on by any other party or for other purposes.

The business review contains certain forward looking statements. These statements have been made by the directors in good faith based on information available to them up until the day that they approved the report of the directors. Forward looking statements should be regarded with caution because of the inherent uncertainties in economic trends and business risks.

The construction and regeneration group

Morgan Sindall, the construction and regeneration group, is structured into five main operating divisions, namely Fit Out, Construction, Infrastructure Services, Affordable Housing and Urban Regeneration, which span the UK construction market with a balance of activities in both the public and commercial sectors. In addition the Group Activities segment includes the activities of the parent company and Morgan Sindall Investments, the Group's project investment team.

Record performance in 2008

Morgan Sindall delivered a record result in 2008. Profit before tax and amortisation increased by 15% in 2008 to £71.4m (2007: £62.1m ) on revenue which increased by 20% to £2, 548m (2007: £2, 115m). This was due to the underlying growth of Infrastructure Services as well as the full year impact of the July 2007 acquisition on the Infrastructure Services and Construction divisions offset by a fall in profit at Affordable Housing.

Profit before tax increased by 8% to £62.3m (2007: £57.6m). The income tax expense for the year reduced to £17.5m (2007: £18.2m) as a result of a reduction in the corporation tax rate and the benefit of an adjustment in respect of prior years' tax. Earnings per share before amortisation of intangible assets ('adjusted EPS') increased by 22% to 127.8p (2007: 104.5p). This performance is attributable to the consistent application of our strategy of seeking to create market leading positions in our chosen sectors of the construction and regeneration markets.

Continued growth in dividend

The final dividend for the year recommended by the Board is 30.0p (2007: 28.0p) giving a total dividend for the year of 42.0p (2007: 38.0p), being covered by adjusted EPS by 3.0 times (2007: 2.8 times). The Group's policy is to increase the dividend broadly in line with the growth in earnings, aiming to cover the dividend by earnings between two and a half and three times.

Strategy remains the same

Morgan Sindall's strategy is to create a construction and regeneration group with market leading positions in a number of sectors within the UK construction market. This strategy aims to provide long-term success for the Group and its stakeholders through both organic and acquisitive growth.

Each business within Morgan Sindall occupies or is working towards a leading position in its market by pursuing these key objectives:

• to focus on the quality of our delivery in order to satisfy our clients' needs and expectations
• to attract, develop and retain talented employees
• to develop businesses that operate safely with sustainable profit streams
• to ensure we generate the cash resources to develop our businesses and to fund acquisitions.

The ultimate success of the Group's strategy is measured by the margin generated by each division. We continue to believe that the measure of a market leading position is the quality of the margin rather than the absolute level of revenue. This better reflects the value that clients place on the services that our businesses provide.

The Group further measures success through five principal Key Performance Indicators, shown in the table below.

Strength through decentralisation

Decentralisation is at the heart of Morgan Sindall's approach. The Group seeks to minimise the activities of the parent company and allow the operating divisions to structure themselves to best suit the different sectors in which they operate. Crucially at a time of significant change in our market, this approach allows the divisions to be more responsive to the changing demands of their clients.

The role of the Board is to set the Group's overall strategy and direction and to ensure the right leadership is in place for each division. In addition it also ensures that the divisions are properly managed through the agreement of business plans and objectives and monitoring of performance against these plans. The Board also governs the internal control environment through the establishment of Group policies and standards for business operations.

Market outlook for 2009

The UK construction market grew by an estimated 1% in 2008 (2007: 2.5%) and the forecast growth of the UK economy was 0.8% (2007: 3.1%). Within the overall UK construction market the infrastructure and public non-residential sectors experienced strong growth in 2008 which benefited the Group and helped to offset weaker demand in the private commercial and residential sectors.

Trading conditions are expected to be challenging in 2009 against a poor general economic backdrop with UK GDP forecasts for 2009 of a decline of around 3.0%. Construction sector forecasts suggest infrastructure and public nonresidential markets are set for further growth but the overall market is expected to continue to be impacted by further decline in the private commercial sector. More detailed comments by division are included in the divisional reviews.

With the public and regulated sectors forecast to continue to grow in 2009, the Group is currently well positioned with around three quarters of the Group's revenue coming from these sectors.

The Group forward order book as at 31 December 2008 stood at £3.7bn, which helped us to enter the year with both confidence and enthusiasm.

Shareholders' equity

Shareholders' equity increased to £192.3m (2007: £165.7m). The number of shares in issue at 31 December 2008 was 43.0m (2007: 42.8m). The increase of 0.2m shares was due to the exercise of options under employee share option schemes.

Cash flows as expected

The cash position of the Group remains strong at £120m (2007: £219m). Average cash during 2008 was £77m (2007: £75m) reflecting increased profitability offset by increased working capital requirements as discussed here.

The net cash outflow from operating activities was £65.5m (2007: inflow of £158.1m), with operating profit being offset by an increased level of working capital employed in the business. The working capital movement is as a result of the increased level of inventories of £43m primarily arising from the slowdown in the pace of open market house sales at Affordable Housing and the cash outflow related to the movement in contract fair value provisions of £40m created in relation to the July 2007 acquisition. The other major categories of cashflow were as follows. There were no net payments to acquire subsidiaries (2007: £11.3m), capital expenditure was £8.4m (2007: £8.0m) and payments to increase interests in joint ventures were £12.4m (2007: £5.0m), reflecting ongoing investment in the business. After payments for tax, dividends and servicing of finance, the net decrease in cash and cash equivalents was £98.6m. It is anticipated that the cash resources will be available for the development of the Group's businesses either through funding acquisitions or investment in working capital as required.

Group maintains bank facilities in addition to cash resources

In addition to its cash resources the Group has a £25m loan facility available until November 2009, a further £25m loan facility available until June 2010 and a £25m, 364-day loan facility which can be extended at the Group's option until June 2010. Banking facilities are subject to financial covenants, all of which have been met in the year.

The Group has established treasury policies which set out clear guidelines as to the use of counterparties and the maximum period of borrowings and deposits. Deposits are for periods of no longer than three months. The Group has very limited exposure to foreign exchange risk because its operations are based almost entirely in the UK and non-UK suppliers are used only occasionally.

Although the Group does not use derivatives, some of its joint venture businesses use interest rate swaps to hedge floating interest rate exposures and Retail Prices Index swaps to hedge inflation exposure. The Group considers that its exposure to interest rate and inflation movements is appropriately managed.

Going concern

The chairman and chief executive's statement and the business review set out the Group's activities, its performance in 2008, its financial position at 31 December 2008 and the outlook for 2009. Details of its cash flows, liquidity position and borrowing facilities and of the key risks and uncertainties to the Group achieving its strategy and objectives and of how these risks are managed are also included in the business review. In addition, note 28 to the consolidated financial statements describes the credit, liquidity and market risks facing the Group, the way the Group manages these risks as well as the Group's capital management policies.

As stated in those paragraphs referred to above, the Group has considerable financial resources with £120m net cash as at 31 December 2008 and banking facilities extending until at least June 2010. It also has a strong forward order book, a balanced portfolio of current and future work with commercial and public sector clients across the UK, and the directors believe the Group is well placed to manage its business risks successfully despite the uncertain economic outlook.

Having regard to the above and after making enquiries, the directors have a reasonable expectation that the Company and Group have adequate resources to continue in operational existence for the foreseeable future. Accordingly, they continue to adopt the going concern basis in preparing the annual report and accounts.

Key risks

Morgan Sindall has identified and actively manages a number of key risks to achieving the Group's strategy and objectives. Its risk management process is underpinned by internal audit and assurance processes to test and improve controls. The principal risks facing the Group, and the way they are managed, are as follows:

Developing talent

Without talented people the Group will not be able to improve the quality of its delivery, grow or develop sustained financial performance. As the Group grows it is critical that talented individuals are attracted, developed and retained at every operating level. A key element of employee training and retention is the Morgan Sindall Development Programme (‘MSDP’), which seeks to develop individual skills and management techniques across the Group.

Operating safety

The Group's health and safety performance affects employees, subcontractors and the public and, in turn, can impact on its reputation and commercial performance. The Group has a comprehensive framework in place to manage health and safety risks. The cross divisional sharing of best practice continues to develop robust safety management systems and includes training, auditing and frequent site visits.

Market risks

The Group needs to retain flexibility to swiftly respond to changing market conditions, especially in the current economic climate. This approach seeks to mitigate any adverse financial impact of market changes and to ensure we have the appropriate level of resources. The market sectors in which the Group operates are affected, to varying degrees, by general macro economic conditions and in particular by changes in Government spending priorities. Changes in the level of activity in each sector are closely monitored, as is the forward order book and pipeline of opportunities. A consistent and open dialogue with our clients helps us to understand their plans and priorities and to gather formal and informal market intelligence. The Group's balance of activities also gives it resilience, with its broad sector spread giving a degree of protection against a downturn in any one sector of the economy.

Regulatory risks

The Group operates within a constantly changing regulatory environment. Non-compliance with regulations can lead to damage to the Group's reputation and market standing and consequently may lead to financial penalties and impact the Group's ability to secure new business. The main approach to managing this risk is to ensure that our systems and processes evolve and develop in line with regulatory changes and are swiftly communicated throughout the divisions. In addition this risk is managed through our advisors giving technical briefings to our employees on relevant topics and legislative changes as they occur, through training of staff and through regular review and updating of the Group's policies and procedures.

Contract risks

The Group undertakes several hundred contracts each year and the commercial risk attached to each contract will depend on the nature and complexity of the works, the duration of the contract and the contractual terms under which the work is carried out. In order to manage this risk we have a rigorous approach to contract selection to ensure that the projects we undertake match our capabilities and resources, that the contractual terms are acceptable and that the contracts are scrutinised and approved by the appropriate level of management. Robust procedures also exist to manage the ongoing risks associated with contracts with monthly reviews of each contract's performance covering both financial and operational issues.

Acquisition risks

The Group regularly identifies and evaluates potential acquisitions. As an opportunity develops the Group identifies the risks related to an acquisition and determines whether the acquisition should be progressed. Where a decision is made to progress, financial and commercial due diligence is undertaken by the Group, using its own employees, led by senior managers. The Group also uses external specialists to review risk areas such as legal, pensions, tax and property. Risks associated with the post-acquisition integration of acquired businesses are mitigated by developing detailed integration plans and by closely managing the integration process. This ensures that the value of goodwill is protected and that anticipated synergies are fully realised.

Counterparty and liquidity risk

Without sufficient liquidity, the Group's ability to meet its liabilities as they fall due would be compromised, which could ultimately lead to its failure to continue as a going concern. Key to the Group's continuing ability to meet its liabilities as they fall due is the careful monitoring and review of both current and potential clients and suppliers with which we do business and continual monitoring of current and forecast cash and working capital. Further disclosure on liquidity risks and liquidity risk management is contained in note 28 to the consolidated financial statements.

Sustainability review

During 2008, the Group undertook a review with regard to its activities in the areas of recruitment and training, health, safety and the environment, as well as the social and economic aspects of sustainability. In 2007 these business activities were reported under the heading of Corporate Social Responsibility. During the course of the 2008 review, it became apparent that the term Sustainability better describes the scope of the Group’s current policies, actions and impacts, as well as its future aspirations. A more focused approach has now been adopted, with future policies, initiatives and education programmes aimed more specifically at addressing the issues of Sustainability rather than the concept of Corporate Social Responsibility.

This year the Group has focused in particular on four strategic priorities:

• supply chain management
• carbon management
• health and safety
• talented people.

The Group’s actions can have a major positive impact on the welfare and prosperity of future generations and the Group takes its obligations to sustainability very seriously. The Company’s commercial director is the executive director responsible for sustainability issues and is supported by a cross-divisional team. Policies and strategies, which often include the measurement and verification of KPIs, are either in place or are being developed at Group and divisional levels. Morgan Sindall is a committed member of FTSE4Good, as it has been since its inception in 2001. Numerous projects completed during the year (some of which are highlighted elsewhere in this report) demonstrate the abilities of the divisions to deliver to recognised environmental, social and economic standards.

Supply chain management

Recognising the significant contribution that the supply chain can make to the Group’s sustainable performance, Morgan Sindall began a series of sustainability workshops in the latter part of 2008. Designed to educate and train staff in sustainable supply chain management, the externally facilitated workshops, run in conjunction with London Remade, also served to assist in defining the Group’s sustainable procurement objectives. An action plan has been drawn up and it is expected that the Group’s sustainable procurement policy will be finalised and enacted in 2009. This is a key area where the Group can exert its influence, through its purchasing policies, to ensure that minimum standards are met and is a policy that will aim to encourage suppliers to improve their own environmental performance. An excellent example of this approach is the procurement of timber.

The Group uses just four importers/distributors to supply timber material and its purchasing policy is to obtain material certified under the Forest Stewardship Council (‘FSC’) or Programme for Endorsement of Forest Certification (‘PEFC’) schemes. In 2008, 77% of directly purchased timber met these criteria. Where FSC or PEFC certification is unavailable, only products certified from another recognised body such as the Sustainable Forestry Initiative or the Canadian Standards Association are normally purchased. In a small number of cases, where no certification is in place, the Group insists on evidence from the supplier that the material has been procured legally.

Morgan Sindall recognises the major role the construction industry can play in materials recovery, re-use and recycling. Eliminating waste taken to landfill, by developing segregated waste streams, sorting and recovery, is an important aspect of the work undertaken across all the divisions. The type of project often determines the most appropriate treatment of the waste stream. Materials such as reclaimed timber from an urban redevelopment project will be recycled or recovered prior to subsequent reuse by the local community. Information on improvements in waste management form part of the data gathering that takes place after project completion so that lessons can be learned and applied in the future, thereby continually developing best practice. Reported waste volume for each project is used as a KPI within the Group’s sustainability objectives.

¹This data includes all materials classified as waste and that are removed from site irrespective of whether they are disposed to landfill or recycled/ reused elsewhere. The Group’s recycling figures relate to waste that have been identified as being reused or recycled.

Carbon management

Recognising the enormous contribution that construction and regeneration can make to reducing carbon emissions, Morgan Sindall has identified carbon management as a priority. In order to fully understand the impact of its activities, and the way in which carbon reductions can be achieved, the Group appointed IBM to undertake a comprehensive carbon review. The review findings will be available in early 2009 and will be acted upon during the remainder of the year ahead. They will help the Group to focus on key environmental improvements as well as prepare for the introduction of the Government’s Carbon Reduction Commitment. The main aims of this independent carbon management review are to:

• closer align environmental and business strategies within the Group
• gain a more meaningful and measurable view of environmental performance
• define unambiguous priorities for action coupled with practical solutions
• accurately establish the Group’s carbon footprint.

As a business, Morgan Sindall is well placed to influence improvements in energy use and subsequent reductions in carbon emissions. The varied nature of the Group’s activities span civil engineering, commercial new build, housing, the refurbishment of existing properties and the large scale regeneration and redevelopment of urban areas. By applying energy efficient building practices, the Group can contribute significantly to reducing the whole life energy cost of buildings. This life cycle is extended even further by Morgan Lovell and Morgan Professional Services who, through their design expertise, are able to specify and influence the type of materials and products used by developers and sub-contractors.

Further examples of the Group’s environmental performance are contained in the 2008 project focus.

Health and safety

During 2008 a number of safety milestones were reached in numerous projects across the divisions. These include no reportable accidents since 2004 at one divisional company, over 1 million man hours worked with no reportable accidents by a divisional partnership team and a 20% increase in the number of employees across the Group completing the Construction Skills Certification Scheme. The Group’s health and safety forum supports a number of initiatives that have been undertaken during 2008, including sponsorship of the Trojan Horse Project. This is an industry-wide initiative designed to improve the package labelling of construction products, using pictorial images, to assist the workforce in the immediate recognition of risks at the point of use.

Unfortunately, despite improvements in training numbers and a focus on safety education, the commitment to a safe working environment was overshadowed by the tragic death of a subcontractor whilst carrying out construction work on a Group site. Despite a robust and enduring commitment at all levels of management to site health and safety, this accident served as a stark reminder of the potential dangers in the industry. The Group remains committed to working on improving health and safety policies, education and management to ensure that all workplaces remain safe for all personnel and the public.

Morgan Sindall performance on the nominated Health and Safety KPIs is as follows:

Accident incident Rate (‘AIR’) is per 100, 000
persons employed and is calculated as:

Number of reported incidents	x 100, 000
Average number of persons employed

During 2008, Morgan Sindall contributed to the Health and Safety Executive’s (‘HSE’) review of health and safety strategy. This was initiated because of the HSE’s concerns that improvements in performance, throughout Great Britain, have stalled since 2003. Work undertaken by the Group in reducing accidents and raising awareness of correct health and safety procedures is reflected in the reduction of the AIR for the year. This reverses the slight upward trend of previous years. Although site population has increased by 21% since 2007, the increase in work related accidents has risen by only 18%, with a significant reduction in three day incidents. The Group is satisfied that figures closely match the averages of the MCG Companies for 2008 and the overall policies and management systems already in place are both robust and appropriate. However, an increase in the number of major accidents, even given the overall downward trend in AIR, is unacceptable. More work is being undertaken to identify the causes of accidents and minimise risk throughout the workplace.

The Group is committed to the need to focus upon behavioural change in the way health and safety issues are handled on construction sites, with a positive emphasis upon applied active learning, the investigation and analysis of near miss events, and the ongoing engagement with the direct and indirectly employed workforce in the spread of best practice. The divisions are encouraged to adopt their own programmes tailored to their specific business needs to address these fundamental issues.

Talented people

Enthusiastic, well trained and qualified staff are vital to the continuing success of Morgan Sindall. The Group actively promotes a policy of equal opportunity employment, which assists in attracting and retaining the best talent in the industry. The success of these policies is reflected in a reduction in leaver rates in 2008 due to job satisfaction or career development. Recruitment procedures, selection criteria and training opportunities are designed to ensure that all individuals are chosen, treated and promoted on the basis of their merits, abilities and potential. The Group does not tolerate sexual, mental or physical harassment in the workplace. Subject to the nature of its work in the construction industry, the policy of the Group is to ensure that there are fair opportunities for the employment, training and career development of disabled persons, including continuity of employment with re-training where appropriate.

Effective communication with stakeholders on all aspects of sustainability is important to Morgan Sindall and its divisional businesses. The main channel used for employee communication is the Group’s intranet. Corporate policies, information directories and other important information is available to staff using the intranet’s extensive index and search capabilities. Regular news updates on aspects of sustainability, as well as wider issues relating to the construction industry, are made available via the intranet. This service is supported by regular newsletters, produced by each division, which educate and inform staff on a variety of health, safety and environmental issues. Direct engagement with employees is managed through the use of facilitated focus groups. Employee surveys also provide the opportunity for feedback to be obtained and acted upon.

Technical and safety training for construction personnel is a priority for Morgan Sindall with an average of five days training given to each employee during 2008.

Finding and keeping talented people is a priority for the Group. A range of training programmes and initiatives have operated successfully during the year aimed at employees at all levels, from newly recruited graduates to senior managers. A major success has been the continued growth during 2008 of the Morgan Sindall Development Programme, which provides structured management development and helps to share best practice amongst the Group’s management personnel. Now in its fifth year, over 400 employees have benefited from the programme since its inception. Activities within the divisions encourage school pupils and leavers to consider a career in the construction industry. Apprenticeship schemes are used across the Group to sustain its direct labour force and encourage new talent.